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Chapter 5

5-1


5
MERCHANDISING OPERATIONS
AND THE MULTIPLE-STEP
INCOME STATEMENT

5-2

Accounting, Fourth Edition


Study
Study Objectives
Objectives

5-3

1.


Identify the differences between a service company and a
merchandising company.

2.

Explain the recording of purchases under a perpetual inventory
system.

3.

Explain the recording of sales revenues under a perpetual
inventory system.

4.

Distinguish between a single-step and a multiple-step income
statement.

5.

Determine cost of goods sold under a periodic system.

6.

Explain the factors affecting profitability.

7.

Identify a quality of earnings indicator.


Merchandising
Merchandising Operations
Operations

Merchandising

Operations

Operating
cycles
Flow of costsperpetual and
periodic
inventory
systems.

5-4

Recording
Purchases of
Merchandise
Freight costs
Purchase
returns and
allowances

Recording
Sales of
Merchandise

Income
Statement
Presentation

Evaluating
Profitability

Sales returns
and allowances

Sales revenues

Gross profit rate

Gross profit

Sales discounts

Operating
expenses

Profit margin
ratio

Purchase
discounts

Nonoperating
activities

Summary of
purchasing
transactions

Determining
cost of goods
sold-periodic
system


Merchandising
Merchandising Operations
Operations
Merchandising Companies
Buy and Sell Goods

Wholesaler

Retailer

Consumer

The primary source of revenues is referred to as
sales revenue or sales.
5-5

SO 1 Identify the differences between service and merchandising companies.


Merchandising
Merchandising Operations
Operations
Income Measurement
Sales
Revenue

Less

Cost of
Goods Sold

Not used in a
Service business.

Equals

Cost of goods sold is the total
cost of merchandise sold during
the period.

5-6

Gross
Profit

Illustration 5-1
Income measurement process
for a merchandising company

Less

Operating
Expenses

Equals

Net
Income
(Loss)

SO 1 Identify the differences between service and merchandising companies.


Merchandising
Merchandising Operations
Operations
Illustration 5-2

Operating
Cycles
The operating cycle
of a merchandising
company ordinarily
is longer than that of
a service
company.

5-7

SO 1 Identify the differences between service and merchandising companies.


Merchandising
Merchandising Operations
Operations
Flow of Costs

Illustration 5-3

Companies use either a perpetual inventory system or a periodic inventory
system to account for inventory.
5-8

SO 1 Identify the differences between service and merchandising companies.


Merchandising
Merchandising Operations
Operations
Flow of Costs
Perpetual System

5-9



Maintain detailed records of the cost of each
inventory purchase and sale.



Records continuously show inventory that should be
on hand.



Company determines cost of goods sold each time a
sale occurs.

SO 1 Identify the differences between service and merchandising companies.


Merchandising
Merchandising Operations
Operations
Flow of Costs
Periodic System


Do not keep detailed records of the goods on hand.



Cost of goods sold determined by count at the end of
the accounting period.



Calculation of Cost of Goods Sold:
Beginning inventory
$ 100,000
Add: Purchases, net

5-10

800,000
Goods available for sale

SO 1


Merchandising
Merchandising Operations
Operations
Flow of Costs
Additional Consideration
Perpetual System:

5-11



Traditionally used for merchandise with high unit
values.



Provides better control over inventories.



Requires additional clerical work and additional cost to
maintain inventory records.

SO 1 Identify the differences between service and merchandising companies.


5-12


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise


Made using cash or credit (on account).



Normally recorded when

Illustration 5-5

goods are received.


Purchase invoice should
support each credit
purchase.

5-13

SO 2 Explain the recording of purchases under a perpetual inventory system.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Illustration 5-5

Illustration: Sauk Stereo (the
buyer) uses as a purchase invoice
the sales invoice prepared by PW
Audio Supply, Inc. (the seller).
Prepare the journal entry for
Sauk Stereo for the invoice from
PW Audio Supply.

May 4

Inventory
Accounts payable

5-14

3,800
3,800

SO 2 Explain the recording of purchases under a perpetual inventory system.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Freight Costs – Terms of Sale

Illustration 5-6
Shipping terms

Ownership of the goods
passes to the buyer when the
public carrier accepts the
goods from the seller.

Ownership of the goods
remains with the seller until
the goods reach the buyer.

5-15

Freight costs incurred by the seller are an operating expense.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Illustration: Assume upon delivery of the goods on May 6, Sauk
Stereo pays Haul-It Freight Company $150 for freight charges, the
entry on Sauk Stereo’s books is:
May 6

Inventory

150

Cash

150

Assume the freight terms on the invoice in Illustration 5-5 had
required PW Audio Supply to pay the freight charges, the entry by
PW Audio Supply would have been:
May 4

Freight-out
Cash

5-16

150
150

SO 2 Explain the recording of purchases under a perpetual inventory system.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Purchase Returns and Allowances
Purchaser may be dissatisfied because goods are
damaged or defective, of inferior quality, or do not meet
specifications.

5-17

Purchase Return

Purchase Allowance

Return goods for credit if
the sale was made on
credit, or for a cash refund
if the purchase was for
cash.

May choose to keep the
merchandise if the seller
will grant an allowance
(deduction) from the
purchase price.

SO 2 Explain the recording of purchases under a perpetual inventory system.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Question
In a perpetual inventory system, a return of defective
merchandise by a purchaser is recorded by crediting:
a. Purchases
b. Purchase Returns
c. Purchase Allowance
d. Inventory

5-18

SO 2 Explain the recording of purchases under a perpetual inventory system.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Illustration: Assume that on May 8 Sauk Stereo returned to
PW Audio Supply goods costing $300.
May 8

Accounts payable
Inventory

5-19

300
300

SO 2 Explain the recording of purchases under a perpetual inventory system.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Purchase Discounts
Credit terms may permit buyer to claim a cash
discount for prompt payment.
Advantages:

5-20

Example:

Credit

terms may read 2/10,
n/30.



Purchaser saves money.



Seller shortens the operating cycle.

SO 2 Explain the recording of purchases under a perpetual inventory system.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Purchase Discounts - Terms

5-21

2/10, n/30

1/10 EOM

n/10 EOM

2% discount if
paid within 10
days, otherwise
net amount due
within 30 days.

1% discount if
paid within first 10
days of next
month.

Net amount due
within the first 10
days of the next
month.

SO 2 Explain the recording of purchases under a perpetual inventory system.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Illustration: Assume Sauk Stereo pays the balance due of
$3,500 (gross invoice price of $3,800 less purchase returns
and allowances of $300) on May 14, the last day of the
discount period. Prepare the journal entry Sauk Stereo
makes to record its May 14 payment.
May 14

Accounts payable
Inventory
Cash

3,500
70
3,430

(Discount = $3,500 x 2% = $70)
5-22

SO 2 Explain the recording of purchases under a perpetual inventory system.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Illustration: If Sauk Stereo failed to take the discount, and
instead made full payment of $3,500 on June 3, the journal
entry would be:
June 3

Accounts payable
Cash

5-23

3,500
3,500

SO 2 Explain the recording of purchases under a perpetual inventory system.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Purchase Discounts
Should discounts be taken when offered?

Example: 2% for 20 days = Annual rate of 36.5%
(365/20 = 18.25 twenty-day periods x 2% = 36.5%)

5-24

SO 2 Explain the recording of purchases under a perpetual inventory system.


Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Summary of Purchasing Transactions

4th - Purchase
6th – Freight-in

$3,500
150

Balance

$3,280

5-25

$300
70

8th - Return
14th - Discount

SO 2 Explain the recording of purchases under a perpetual inventory system.


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